Pro & Cons of a FHA Mortgage

by William Pirraglia

FHA mortgages help younger home buyers, but have a couple of drawbacks.

FHA (Federal Housing Administration) mortgages help millions enjoy their first and subsequent homes. In 2009 alone, over $1 million of new FHA mortgages were made. Like all mortgage products, there are pros and cons to consider when shopping for the "right" home loan. First time home buyers should learn all they can about mortgage options to make the best choice. Since 1934, the FHA has been insuring home mortgages and continues to be a good choice.

Pro: No Minimum Credit Score

Since the recession of 2007 to 2009, the fact that FHA has no minimum credit score for you to qualify for financing has become a strong feature. Unlike most conforming mortgages--those not made or insured by the government -- FHA looks at your total application when rendering approval/rejection decisions. Therefore, if you have an unimpressive credit score, you may be able to persuade the FHA to insure your loan because of the positive compensating factors, such as your steady employment or great cash flow.

Pro: Low Down-Payment

Most first time home buyers and younger prospective homeowners are short of cash needed to complete a conforming mortgage closing. With the high cost of real estate -- even for "starter" homes -- the 10 to 20 percent down payments required for conforming mortgages can be prohibitive. However, the FHA only requires 3 1/2 to 5 percent down to purchase a home. Unlike most conforming mortgages, the FHA also allows gifts of down payment cash from family and other sources.

Con: Insurance Premiums

The FHA does not make direct mortgage loans. They insure the balances of home loans made by others, usually banks, credit unions, or national mortgage companies. For this service, they charge homeowners an insurance premium. There are two parts to their insurance. One is an "up front" charge that you can pay in cash or finance through an addition to your prospective mortgage balance to purchase a home. The second part is a monthly premium added to your mortgage payment, which includes principal, interest and escrows for real estate taxes and property insurance. You must keep this FHA insurance for at least five years. You may cancel it after your loan-to-value (LTV) equals 78 percent or less. LTV is calculated by dividing your mortgage balance by your home's fair market value (FMV).

Con: Limited Loan Options

By design, FHA mortgage options are "vanilla" in their terms and choices. They are designed to be simple, understandable and devoid of some of the "exotic" options, like interest only loans offered by some conforming lenders. In return for their liberal approval and low down payment standards, the FHA wants to insure only solid home loans. Fixed rate and basic adjustable rate mortgages (ARMs) are the only real choices. Although technically a con, these basic choices will typically benefit your home owning experience in the long term.